By David Lamb CFP™ MCSI
Last month’s budget has made changes to inheritance tax (IHT) rules which will significantly affect how most pension funds are treated for IHT purposes.
From April 2027, nearly all pension funds – including lump sum payouts, beneficiary’s drawdown, annuities and lump sums into bypass trusts – will now be included in your estate for IHT calculations.
However, scheme pensions and charity lump sum death benefits will remain exempt from IHT.
The forthcoming changes will eliminate the existing exclusion of pension funds, meaning all pension benefits will count as part of your estate. IHT will instead be assessed on the gross value of your pension funds immediately before death, prior to any distribution.
This IHT charge will be settled by the pension scheme, and the existing income tax rules for funds before and after age 75 will still apply. Consequently, individuals over 75 will be subject to both IHT and income tax on residual funds exceeding the Lifetime Savings Death Benefit Allowance.
Collaboration between personal representatives and pension scheme administrators will be essential to determine the IHT liability and the pension scheme’s share of the charge.
Importantly, the spousal exemption will remain intact, ensuring that funds passed to a spouse or civil partner will be exempt from IHT upon the first death.
As these changes approach, reviewing your pension strategy is crucial:
• If your pension funding is primarily for estate planning, it may be time to reassess.
• For those deferring tax-free cash withdrawals beyond age 75, consider taking the tax-free portion now to avoid the double tax burden of IHT and income tax at death.
• If you have left pension funds undrawn for estate planning, this strategy should also be evaluated – especially if you are over 75.
• If your pension funds are not needed, withdrawing tax-free cash and making gifts could be a better option than maintaining those funds in the pension.
• Review all death benefit nominations; transferring funds to a spouse may create opportunities to exclude these assets from the estate before death.
• Consider implementing binding nominations, as previous disadvantages may now be mitigated, though it may take time for schemes to update their rules.
These changes will have significant tax implications. We are here to assist you in navigating this transition and ensuring your estate plan aligns with the new regulations.
Contact us for advice at [email protected] or call 01661 860438.
